Refining Oil Is A Rotten Biz, Unless You're Holly Corp.

The oil refining industry is in the doldrums. Gasoline demand is down 10%; plants are closing across the country. One way or another, carbon legislation will make gasoline more expensive. So why does
Holly Corp.
think now is the time to buy up plants its competitors don't want? And in Tulsa, of all places?

Last week Dallas-based
Holly
closed on the acquisition from Sinclair Oil of a refinery in Tulsa, Okla., that processes 75,000 barrels per day. The purchase price, $130 million in cash and stock, is less than half the $300 million in upgrades that Sinclair has put into the plant since 2004 to meet low-sulfur fuel standards.

Two miles away from the Sinclair plant is another refinery that Holly bought last April from
Sunoco
for $65 million. The Sunoco plant can process more oil than the Sinclair one, 85,000 bpd, and it also makes specialty lubricants. Though this was the bigger plant, the purchase price was half that of the Sinclair plant, because Sunoco had been putting off $100 million or more in upgrades needed to clean up its fuels.

Holly aims to combine the two into one big refinery. That will be done by building three pipelines, which will burrow under a highway and railroad. With these connections, says Chief Executive Matthew Clifton, "we will be able to eliminate required cap-ex at the Sunoco plant equal to the entire purchase price." By being able to pipe partially refined crude to the other side of town, "we now have an outlet for unfinished oil that couldn't be processed at Sunoco," says David Lamp, president. Holly figures that this move alone will generate some $20 million a year in operating income.

It was a neat idea that Holly was able to pull off because of its position as perhaps the most financially stable independent refiner in the nation. Its other plants, in Artesia, N.M., (100,000 bpd) and Salt Lake City (31,000), are in geographically protected locations far from the highly competitive coastal refining centers. This means that as bigger refiners like
Valero Energy
, posted big losses in the third quarter, Holly eked out net income of $24 million.

Combined, Tulsa becomes Holly's biggest plant, handling 125,000 barrels per day. It's also in a good location for sourcing crude, near the Cushing, Okla., oil storage center and trading hub where benchmark West Texas Intermediate crude is priced. After $60 million in additional capital investments, it will cost $230 million. That breaks down to $1,900 per barrel of daily capacity.

How good a deal is this? Awesome. At least compared with the stock market valuations of other refiners. Paul Sankey, oil analyst with
Deutsche Bank
, notes that larger refiners are trading closer to $5,600 per barrel of capacity.

It's not the first time Holly's sharp pencils have landed such a good deal (see "Doing More With Less"). In 2003 it bought the Salt Lake City plant, called Woods Cross, from newly merged
ConocoPhillips
for $25 million. "Next to nothing," says Clifton, especially after Holly sold some of the filling stations and pipelines that came with the plant. When gasoline prices soared in 2007, Woods Cross generated more than $100 million in profits for Holly.

Considering the weakness of many small refiners across the country, Tulsa might not be the last deal it makes during the downturn. Maybe a merger with Sinclair Oil? Clifton says there's absolutely no talk of such a thing, and he wouldn't comment if there were. Yet Sinclair, owned by 82-year-old billionaire Robert Earl Holding, owns a handful of other refineries in the west and has a 25% stake in a Holly-controlled pipeline running from Salt Lake City to Las Vegas. Clifton is patient: "Holly has been in the refining business 40 years. We know it's a cyclical business with upturns and downturns. We will maintain a good balance sheet in good times and bad."